Smart Thinking with the Barbarous Relic

By Adrian Ash

Editor's Note: Recently, Michael Checkan had a chance to spend some time with Adrian Ash, the head of research for BullionVault. We've known Adrian for many years and always relish the opportunity to discuss the precious metals market with him.

Adrian always has his finger on the pulse of the gold or silver market. Right now, one of the most important stories with regard to gold is post-election India. Hence, that's the topic of today's alert...

--Rich Checkan

INDIA loves gold so much, the government last year slammed the door on new imports to try and stem the country's huge trade deficit.

It worked, at least on paper. India's current account deficit fell 65% between 2013 and 2014. Half that drop came thanks to lower gold imports, notes Matthew Turner at Macquarie. But killing supply didn't kill demand, and illegal imports leapt.

The new BJP government under Narendra Modi has made beating smugglers a key plank of its broader anti-corruption drive. And that's a key part of their stated push for deregulation and growth. So what to do about gold?

Word is that smuggling, like India's legal gold demand, is ebbing right now. The local premium to London prices – the world's wholesale benchmark – has sunk from last autumn's record $130 per ounce to nearer $10. Because combined with the typical summer lull in wedding and festival buying, expectations for easier import rules and thus lower premiums are high. Next week's Budget is expected to tweak and trim gold import duty from the current 10%. It may even seek to ease the dreaded "80:20" rule which really did for imports last summer.

But this is tinkering. The "sink of the world" for bullion since Pliny the Elder moaned about the drag it put on Rome's current account deficit in gold, India buys one ounce in every four sold worldwide. China now does the same, but India's 2,000-year headstart mean its temples and households already sit on the heaviest stockpiles – some 20,000 if not 25,000 of the world's 180,000 tonnes above-ground on some estimates. The US Fed, for comparison, reports holdings of 8,000 tonnes.

So instead of importing gold to meet new demand (India has no domestic mine output), how about using what's already there? The Reserve Bank of India led the way Wednesday, saying it will sell old bars from its reserves to become jewellery, and use the cash to buy Good Delivery gold held at the Bank of England in London.

The quantity of pre-modern bars to be sold hasn't been disclosed. But whatever it adds to India's internal gold supply the net effect will be nil for India's gold reserves, other than improving quality and moving the nation's gold ready for action – if needed – to the world's deepest bullion market. Clever.

Smarter still is a proposal from two state-owned banks, the State Bank of India (SBI) and the Bank of Baroda. They say gold bullion, if deposited by bank customers, should be counted as part of required reserve ratios, both liquidity and cash.

"When banks are holding gold, it is of value," says Bank of Baroda chairman S.S.Mundra. Acknowledging this "fits the larger pattern" of India's long-term ambition "of unearthing gold and bringing it to productive sectors in the economy."

Turkey did much the same in spring 2011. The world's No.4 gold consumer nation, it also sits on large privately-held gold. But Ankara went further, and also counts those gold deposits – made by private citizens at commercial banks – as part of the national gold reserves. The CBRT's official gold reserves have quadrupled since then. Perhaps the Reserve Bank of India has noticed?

Either way, so-called "emerging economies" with deep gold cultures are moving to monetize and mobilize gold. Beijing is steadily moving to deregulate bullion, and the People's Bank has put the gold market at the heart of China's wider financial reforms. Four decades after US president Nixon finally cut gold out of the Dollar exchange system, it remains far from a "barbarous relic" for financial services in the fastest-growing economies.

Adrian Ash is head of research at BullionVault, the low-cost physical gold and silver exchange for private investors online. Previously head of editorial at London's largest publishers of financial advice, he was also City editor for Bill Bonner's popular Daily Reckoning. Today Adrian's views on the gold and silver markets are regularly quoted by titles from the Financial Times to The Economist and Wall Street Journal. He is a frequent guest on the BBC, Bloomberg, NPR and CNBC.